Asia’s Downhill Skid is a Buying Opportunity

By

Wayne Arnold

March 29, 2015 10:26 p.m. ET

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The ski slopes seemed a fitting getaway from markets last week. They weren’t. Even as this columnist hurtled down a snow-covered piste, eyes riveted on the deadly peril below, stocks in Asia were caroming right down alongside him. The MSCI Asia index dropped by more than 1%; Taiwan’s benchmark stock index, a proxy for U.S.-led Asian exports, dropped more than 2.5% before wrapping itself around an aspen.

No serious injuries were incurred, but last week’s double black diamond adventure did leave more than one investor with a bruised bottom line. The key is not to be daunted by such scrapes, but rather to get right back onto the lift and try again. Taiwan’s tumble was but a wobble; don’t be surprised to see the benchmark index surpass 10,000 by May.

As the snow melts into spring, however, it does expose a new hazard: bad news is bad news again. Investors wary of interest rate hikes by the Federal Reserve got into the habit of greeting negative U.S. economic indicators as a bullish sign the Fed would hold off. Now that Fed chair Janet Yellen has cleared up at least some of the fog around how soon she might hike rates – i.e. not soon at all -- investors feel confident enough to resume gauging how the recovering U.S. economy might affect corporate earnings. Good news is good for stocks now. And bad news -- like the U.S. Commerce Department’s revelation last week that durable-goods orders in February defied expectations of a gain to decline 1.4% -- causes tumbles like what we saw on Wall Street last week.

Asia’s markets still tend to follow the course laid out by markets in the world’s largest economy, particularly since – with economies in Europe and China buried in a snow drift – the United States is the only major economy gathering speed. Investors hoping to avoid a painful collision therefore need to favor Asian economies that are not only likely to benefit from a U.S. recovery, but which also have an adequate and growing cover of liquidity. That means favoring markets where the cash is piling up fastest thanks to lower interest rates or rising exports. Or both.

The hunt for markets that meet those criteria helps explain why stocks in Taiwan underperformed the rest of the region last week, falling roughly 2.5%, while Singapore bucked the regional sell-off to gain more than 1%. While economists still expect Singapore’s monetary authority to steer the local currency lower to revive inflation and growth, Taiwan’s central bank last week passed up the chance to cut rates, keeping its benchmark rate of 1.875% steady for the 15th straight quarter.

Investors and analysts are confident Taiwan’s stock market will pick itself back up. Even as it was falling last week, global investors were still going long Taiwan. They’ve bought almost $4.9 billion in Taiwan stocks so far this year, well ahead of last year’s pace.

Jefferies global strategist Sean Darby and his team point to a close correlation between money supply and stock-market performance in Taiwan, as well as in three other north Asian economies – Japan, China and Hong Kong. Money supply in all four seems bound to rise, Jefferies reckons, and with it stock prices. Rising U.S. demand for exports is likely to boost north Asia’s trade surpluses. Even if it doesn’t, central banks faced with falling inflation are likely to cut rates and print money to keep borrowing costs cheap and prevent their currencies from rising against rival exporters.

The Bank of Japan’s program of asset purchases, or quantitative easing, has already touched off an undeclared Asian currency war. Hong Kong, with its pegged currency, can’t join in. But because it’s an entrepot for funds in and out of China, local liquidity remains high. And Jefferies maintains that China and Taiwan will eventually launch counterattacks of their own, buying up incoming dollars with newly minted Chinese yuan or Taiwan dollars.

Much of that money is bound to find its way into stocks. Whether or not central banks succeed in reviving domestic growth, therefore, stock prices in Japan, China and Taiwan stand to rise even further. The biggest beneficiaries, according to Jefferies, are shares of those financial companies that will handle the swelling number of trades. It singles out Japan Exchange (
8697.JP
) and Daiwa Securities (
8601.JP
), as well as China’s Haitong Securities (
6837.HK
), Hong Kong Exchanges and Clearing (
0388.HK
), and Taiwan’s CTBC Financial Holdings (2891.TW).

Global investors still need to heed currency risk: a rising money supply will inflate stock prices, but deflate the currency in which they are denominated. Smart investors will look to hedge that risk. Otherwise, investors in north Asia should take a leaf from the skier’s manual: keep your eyes on where you want to go, and don’t be afraid to fall.

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